Is any property sector truly recession-proof?

Jan 01, 2006

The only guarantees in a real estate editor's world are death, taxes, and constant change in the property markets from which no commercial real estate professional is immune. I'm now in my 11th year writing about spreads over Treasuries, but several seasons passed before I realized that any developer or investor who declares that a particular property type is “recession-proof” is wrong. Favorable market conditions are as fragile as pie crust.

A decade ago, more than a handful of strip-center developers told me rather emphatically that the grocery-anchored shopping center business was as solid as a rock during an economic downturn. The conventional wisdom was that customers would buy milk and bread in good times and bad.

These industry veterans were partly right, of course. They just couldn't foresee how many food retailers would be selling milk and bread and an assortment of other necessities. Dollar stores, drug stores, gas stations, and a slew of discounters — most notably Wal-Mart — have cut into the market share of traditional grocers and forever changed the retail landscape as we documented in our November cover story, “Appetite for Risk.”

What's increasingly coming to light in the retail world is the tremendous underlying value of real estate. In mid-December, Kimco Realty was reportedly one of three entities in the hunt to acquire Albertson's Inc., the second largest U.S. grocery chain. Albertson's profits fell 30% in the third quarter of 2005. Competition from Wal-Mart and Target was cited by management as a key reason for the year-over-year drop in performance.

It's clear that 2006 is going to cause more indigestion for traditional grocers and shopping center owners. “There is no question in my mind that the consolidation that continues to occur in the supermarket industry is going to have a profound effect on the open-air center,” remarked Brad Hutensky, president and principal of The Hutensky Group, during a retail panel discussion at the Sheraton New York Hotel & Towers hosted by Marcus & Millichap last month.

For every Wal-Mart supercenter that opens, two supermarkets close down, says Hutensky, whose Hartford-based company specializes in turning around distressed shopping centers. Wal-Mart plans to open 250 to 275 supercenters annually for the foreseeable future, according to Hutensky. “So, if there are 500 to 550 supermarkets closing as a result, that's going to have a pretty profound effect on our sector,” he predicts.

So, what does all this upheaval in the grocery-anchored shopping center arena have to do with our January cover story? Our veteran reporter, Joe Gose, told me that at least one source described the medical office sector as “recession-proof” because of the emerging demographics (the baby boomers are getting older and increasingly hospitals are building outpatient facilities) coupled with the simple fact that every person requires health care.

Sound familiar? The business of medical office buildings is complex and carries its own set of risks, but is financially rewarding for those developers and investors who are knowledgeable. It will be interesting to see if any of our sources refer to the “recession-proof” medical office niche five years from now.